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All investing is subject to risk, including the possible loss of the money you invest.

What do inner-city families trying to save $500 for emergencies have in common with trust-fund heirs? Their common interest, it turns out, is financial literacy.

Five years ago, I was on the Dartmouth College campus for a research conference on household financial literacy in America. It was a fine, sun-dappled day in May, as you can only find in New England. I recall hearing a panel with speakers from two extremes of the wealth spectrum. A consumer group was helping poor inner-city households save $500—in the event a car or refrigerator broke down, or in case of a short period of unemployment. Meanwhile, a financial adviser spoke of the difficulty of educating young heirs about the complexities of managing the family fortune.

The first speaker was concerned with the basics of budgeting and saving—with eking out some money for an emergency reserve, even among families that could barely pay the rent. The second was focused on, essentially, the trials and tribulations of the privileged. Would the next generation know how to manage the family’s wealth? Or would the assets soon be dissipated through spendthrift money habits, poor investment choices, and inadequate oversight of advisers?

The FINRA Foundation has published a new assessment of financial literacy in the U.S.—a benchmark publication in this area, one they hope to repeat in the future. The report (see the executive summary) does a good job of laying out the challenges.

In today’s world, low-income households need to avoid egregious debt traps (like payday loans) while learning how to build some financial cushion and make judicious use of debt. Middle-class households need to navigate home loans and college savings and retirement plans. Upper-income households face complex money management and tax issues; while served by an overabundance of financial advisers, they still have to avoid bad and costly advice.

From payday loans to Bernie Madoff scandals, financial tricks abound, no matter how affluent or educated the household. In the aftermath of the financial crisis, the question of improving financial literacy becomes all the more pressing. The focus in Washington is on the regulatory element, which has an important but more of a supervisory role to play. Some people talk about the schools helping to address the problem, although middle- and high-school curriculums are already jammed. It’s also not clear whether classes taken at, say, age 16 have an impact when you need to buy a house at age 30. What seems clear is that consumers and financial institutions—the marketplace—will need to do most of the heavy lifting in this area. The media can help, too.

Another bright spot is, paradoxically, your neighbors. The FINRA report finds meaningful large groups of Americans who are doing the right thing—educating themselves about money matters, avoiding debt traps, saving for the future. Maybe the real opportunity here is to find a smart (but not overconfident) neighbor who is managing her money affairs sensibly, and learn from her.

Whether you are a member of a poor family in the inner city or a trust fund scion, it may be that the key to the financial literacy challenge is to find the right role model—just down the hall or around the corner—someone whom you can trust and someone who can set you straight.

Note: The link to the FINRA Foundation website will open a new browser window. Vanguard accepts no responsibility for content on third-party sites.

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Steve Utkus

Steve Utkus oversees the Vanguard Center for Retirement Research, which studies many aspects of retirement in America—from how individuals start saving and investing in the early part of their careers, to how they prepare for actual retirement, to how they spend down their savings once they’re retired. Steve is particularly interested in behavioral finance—the study of how rational decision-making is influenced by human psychology. His current research interests also include the ways employers design retirement programs, and new developments in retirement in other countries. Steve holds a B.S. from the Massachusetts Institute of Technology and an M.B.A. from the University of Pennsylvania's Wharton School. He began working at Vanguard in 1987 and has served as director of the Center for Retirement Research since 2001. Steve is also a visiting scholar at the Wharton School.

Comments

Anonymous | June 4, 2010 12:11 am

4/20 7:10 comment is spot on. basic good advice – save early, often, putting a solid asset allocation and spending plan in place – is out there and free, if one is motivated to look for it. But, it doesn’t get advertised on American Idol, so the FUD principal is embraced by the greedier subset of the financial services industry with great effect.

Anonymous | April 25, 2010 3:28 pm

The irony in the dichotomy between both the privileged and underprivileged groups is that the finances of both groups are equally dependent upon their own spendthrift ways. Both the poor and the rich often spend money foolishly on stuff that they want, instead of on only stuff that they need.

Just as an side.. The payday loan industry gets a bad rap when compared to the banking industry. Both industries are equally predatory lenders, but payday loans are mostly the ones more often reported as the “bad guys” in news (and blog) reports.

Anonymous | April 20, 2010 7:10 pm

Unfortunately the financial community in general also is not interested in providing basic, comprehensive investor education. Most investment-related businesses (brokerages, magazine publishers, book publishers, TV show producers) are more interested in keeping people confused. That way they are more likely to keep extracting money from them in the form of fees, subscriptions, advertisement, and other purchases.

Anonymous | April 14, 2010 7:52 pm

Missouri high school students must now pass a course in Personal Finance to graduate. My daughter had a head start because she had a job, checking and savings accounts, and had prepared her own tax returns by the time she took the class as a high school junior.

Anonymous | April 14, 2010 1:12 pm

Why would anyone want the basics of finance taught in high school? Why would anyone, with a lick of common sense, want to learn about finances from someone who overspends, operates in a deficit and is basically financially irresponsible? The whole country spends too much, saves too little and generally lives beyond their means just like our government. If parents were more financially responsible their children would be taught saving, spend only what you have and learn how to get by without items they don’t need. Most people who aren’t financially responsible, basically have no discipline to say “No, I can’t afford that.” Discipline is the key to financial responsibility.

Anonymous | April 14, 2010 10:10 am

I agree with all of the above. I also think that the business community does not want people to consider their spending choices because separating wants from needs may affect their bottom line. I think this is especially true for the debt trap purveyors. I also believe the legislators would not like a financially discerning electorate as they would see the “entitlements” offered for votes would be too costly to them and their progeny.

Anonymous | April 10, 2010 2:34 pm

What is the most frightening to me is that individuals who are woefully ignorant about personal financing and don’t have the faintest inkling about our nation’s economy, vote for candidates who likewise don’t understand. Ask anyone the follwing questions: ‘How do you create wealth and prosperity in our country?’ ‘What role does government play in that process?’ ‘What has been the impact of radical environmentlists on our economy and prosperity?’ ‘What is nation’s Trade Deficit/Surplus and how does that impact me?’ ‘How do I fit in all of these matters?’

Anonymous | April 10, 2010 10:39 am

Knowledge of financial basics starts at home while school, the media and the community continue to supplement this knowledge. I was born abroad but I have utilized the abundant financial information here to save for retirement etc. A lot of it comes down to whether one needs to have it now or can one live well without it now for a secure tomorrow.

Anonymous | April 10, 2010 12:16 am

My daughter, a high school senior, is taking a personal finance class in school. However, she received her real financial education from me by watching me manage our finances and follow a spending and investment plan. She learned to budget when she received a checking account and a monthly allowance and paid her personal bills with cash, checks, and a debit card. Now she is ready for college and, since her parents saved for her college education, will graduate without debt.

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For more information about Vanguard funds, visit vanguard.com or call 877-662-7447 to obtain a prospectus or, if available, a summary prospectus. Investment objectives, risks, charges, expenses, and other important information about a fund are contained in the prospectus; read and consider it carefully before investing.

Vanguard ETF Shares are not redeemable with the issuing Fund other than in very large aggregations worth millions of dollars. Instead, investors must buy and sell Vanguard ETF Shares in the secondary market and hold those shares in a brokerage account. In doing so, the investor may incur brokerage commissions and may pay more than net asset value when buying and receive less than net asset value when selling.

Investments in bond funds are subject to interest rate, credit, and inflation risk.

Diversification does not ensure a profit or protect against a loss.

Investments in stocks or bonds issued by non-U.S. companies are subject to risks including country/regional risk and currency risk. Stocks of companies based in emerging markets are subject to national and regional political and economic risks and to the risk of currency fluctuations. These risks are especially high in emerging markets.

All investing is subject to risk, including the possible loss of the money you invest.